Poloz Counsels Patience as Canada Waits for Investment

Stephen Poloz, the new Bank of
Canada governor, has a message for debt-laden Canadians awaiting
exports and business spending to lead economic growth: be
patient, and keep spending less.

Canadian companies are increasing their investment plans at
the slowest pace in three years, while the household debt-to-income ratio is close to a record high. Poloz, who forecast this
week that business outlays will triple their contribution to
economic growth in 2014, said there’s little he can do to speed
up a needed rotation of demand from consumers to businesses.

“This is the natural course of events,” Poloz, 57, told
reporters in Ottawa on July 17 after his inaugural interest-rate
announcement. “What we require now is a little bit of patience
as opposed to somehow trying to force something to happen.”

Poloz left his benchmark rate at 1 percent, the highest
among Group of Seven central banks, marking the 23rd consecutive
meeting with no change. In continuing the longest interest-rate
pause since the 1950s, Canada stands in contrast with peers such
as the U.S. Federal Reserve and Bank of Japan, which are
continuing or expanding extraordinary measures aimed at spurring
domestic demand.

China also took steps to bolster its economy, removing the
floor on lending rates offered by the nation’s financial
institutions as economic growth slows, the People’s Bank of
China said in a statement on its website.

Spending Trigger

More orders from the U.S., Europe and Japan are needed to
boost exports and trigger the spending that will lead to a
stronger Canadian expansion, Poloz said. The weakness of
domestic demand was underscored by a report today showing that
inflation fell short of the central bank’s 2 percent target for
a 14th straight month. Retail and factory sales have been little
changed for a year, Statistics Canada data show.

“There is no pent-up demand in the domestic economy,”
said Jeff Herold, who helps oversee C$2.5 billion ($2.4 billion)
as lead fixed-income manager at J. Zechner Associates Inc. in
Toronto. “We need to see some external drivers, either some
business investment or business growth, so we are somewhat
dependent on U.S. and global growth to see a better economy in
Canada.”

The International Monetary Fund says the country’s 1.7
percent growth this year will be among the slowest in the Group
of 20 nations outside of Europe. Canada’s dollar has weakened by
0.9 percent over the last month on signs that the U.S. economy
is growing faster. Canada’s benchmark stock index is
underperforming U.S. equities for a third year after seven years
of stronger gains, while government bond yields have also risen
less than Treasuries, suggesting investors are expecting less of
a rebound in growth in Canada.

Canadian Dollar

The Canadian dollar was little changed following today’s
inflation report, trading at 1.0366 per U.S. dollar at 4:33 p.m.
in Toronto, up 0.1 percent from late yesterday. Canadian stocks
rose, with the Standard & Poor’s/TSX Composite Index gaining
56.28 points, or 0.5 percent, to 12,685.13.

Consumer spending spurred by cheap borrowing costs pulled
Canada out of the most recent recession faster than other Group
of Seven nations, leading to a record household debt-to-income
ratio.

“Don’t expect Canada to be outperforming its peers now
because those sectors that pushed Canada above the rest, those
are fading now,” said Krishen Rangasamy, senior economist at
National Bank Financial in Montreal. “It’s a good thing because
we need to get to a point where housing and credit accumulation
slow to a more sustainable path.”

Growth Model

Poloz has said that the model of growth led by debt-fueled
consumption is reaching its limits. Canada’s debt-to-income
ratio was 161.8 percent in the first quarter, down from an all-time high of 162.8 in last year’s third quarter.

“The household sector has done a lot of heavy lifting
through this cycle,” Poloz said. “Those levels of debt are
large and so it’s comforting to us to see them drifting down.”

Finance Minister Jim Flaherty has echoed the central bank’s
warnings about debt. Flaherty tightened mortgage rules for a
fourth time last year and has warned about the risks of
overbuilding in Toronto and Vancouver, the country’s largest and
third-biggest cities.

While consumers responded to low interest rates, Canadian
businesses have yet to follow suit. Oil and gas companies, which
account for almost half of all business investment by firms
listed on the Toronto Stock Exchange, are planning C$18.2
billion in spending this quarter, down 1.5 percent from a year
earlier.

Investment Plans

The Bank of Canada’s latest survey of corporate executives,
published last week, showed machinery and equipment purchase
plans at the second lowest level since 2009 as the last
recession ended.

Canadian firms had a record C$544 billion in cash on their
balance sheets in the first quarter, suggesting ample capacity
to invest. While Poloz’s predecessor, Mark Carney, said that
they should either spend this “dead money” or return it to
shareholders, Poloz -- who worked closely with companies during
a 14-year career at the country’s export financing agency --says
firms are acting with understandable caution.

“If you were making those decisions you’d want to be more
sure too, because this is real money that’s going on the line,”
Poloz said this week.

‘Fragile’ Economy

The Canadian economy “continues to be fragile and it’s
somewhat dependent on what happens globally,” Girling said in a
July 18 interview at Bloomberg’s headquarters in New York.

The central bank forecast the contribution to economic
growth from investment will triple to 0.6 percentage point next
year and then rise to 0.9 percentage point in 2015.

“I’m highly skeptical, and I have been all along, that
business investment can lead growth,” said Doug Porter, chief
economist at BMO Capital Markets in Toronto. “Investment is a
very late-cycle mover.”